What is Asset Allocation?

Asset allocation is a financial planning concept that refers to investors distributing their investments across different asset classes—such as stocks, bonds, real estate, and cash—based on their risk tolerance and investment goals. This achieves a comprehensive allocation of funds across categories, timeframes, and geographies, allowing money to grow.

When allocating assets, we must consider the risk, return, and liquidity of various financial products. These three factors are often mutually exclusive, with at most two achievable simultaneously. Generally, if you want low risk and high liquidity, high returns will be difficult to achieve. Options like money market funds or bank demand deposits may be suitable. These investments are relatively safe and liquid, allowing investors to withdraw funds anytime. However, the downside is that returns are usually modest.

If you pursue high returns and high liquidity, the risk will inevitably be high—for example, stocks or open-end funds with high equity exposure. Such products often carry higher risk and significant return volatility, so investors should not focus solely on high returns while ignoring the underlying risks. If you want both high returns and low risk, you must sacrifice liquidity. Examples include certain fixed-term wealth management products or periodic open-end funds. These products typically have lock-up periods of 1-2 years or longer, mitigating short-term volatility to some extent. Compared to open products, they carry lower risk and offer relatively higher expected returns. Therefore, if a financial product claims to offer "high returns, low risk, and high liquidity," be cautious—it’s likely unreliable. As the saying goes, "you can't have your cake and eat it too."

How to Diversify Investments Properly?

Investor A allocates 100,000 across 20 stocks—is this diversification? From a capital perspective, yes. However, from an asset allocation standpoint, it clearly isn’t. True diversification refers to spreading funds across major asset classes like equities, fixed income, commodities, or alternatives. In other words, Investor A should determine how much of the 100,000 is best allocated to equities, fixed income, commodities, or alternative assets. The purpose of this is that different asset classes have distinct characteristics and low correlations, meaning they rarely rise or fall simultaneously.

We can apply the principle of the financial pyramid, considering our financial situation, family circumstances, investment experience, and risk tolerance to build the most suitable "pyramid." The base is broad and stable, forming the foundation of financial planning. It includes low-risk products like savings, insurance, and government bonds. The middle layer offers moderate terms, risk, and returns—such as corporate bonds, financial bonds, preferred stocks, and various funds. The top is narrow and carries higher risk, with the potential for higher returns or total loss. Therefore, only a small portion of capital should be allocated here—for example, to stocks or futures.